In the basic New Keynesian model, suppose that there is an increase in the future marginal product of capital. Explain your results with the aid of diagrams.  Suppose that the central bank keeps the nominal interest rate at its initial value. What will be the effect on current inflation and on output?  Suppose that the economy initially faces an increase in anticipated future inflation and a zero output gap. When the shock occurs, what should the central bank do?

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A:

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Q: Keynesian model

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Inflation and Purchasing Power Theory

In economic terms, Inflation refers to the increase in the costs of various commodities which are used in daily lifestyle like food, clothes, transport, etc. over a specific time. It may lead to a fall in the purchasing power of the people and also affects the exchange rate of the currency because of the price increase. As the purchasing power falls the unit of the currency in the economy falls. When the prices of the commodities are decreased, then the purchasing power of the consumers will rise, then it will lead to deflation and changes the currency of the base economy to that of the foreign economy which will lead to change in exchange rates.